September 2011, Vol. 238 No. 9
Features
Shale Gas in Todays Context
It’s no secret: popular media publications and those from the energy industry don’t always agree. But about six years ago, the national press radically split with the industry press on the subject of natural gas.
The popular media foresaw an imminent gas shortage, a price increase of nearly 50% in a single year – and worse to come. They saw interrupted supply in response to Hurricanes Katrina and Rita. They bemoaned the slow pace of LNG facilities coming onstream. They saw gas as yet another area of U.S. dependence on foreign energy.
There was no excuse for all this gloom and doom: at that exact same time, on-the-scene industry press was enthusiastically publicizing the growing potential of shale gas. It was tracking discoveries and inventory growth and chronicling foreign investment in U.S. reserves and service company expertise. Industry press was celebrating a spiraling rig count and signaling the pipeline industry’s next boom. And it was raising the possibility of natural gas as an export product. All have come to pass.
The popular media attitude is still there today and all the more puzzling because shale gas is already a significant support for the economy. Think of it in this context: in the 1990s, the economy was helped by extraordinary productivity gains via the dot-com revolution. In the first decade in this century, the economy owed a debt to the big-box stores whose marketing and combination of streamlined logistics and least-cost procurement held down prices and inflation.
In this decade, abundant domestic shale gas production is already having an effect as big as the dot-com and big-box revolutions and, looking forward, it can do more. It can make industrial and electrical generation conversions to gas secure, long-term investments. It can help U.S. employment by rebuilding domestic gas and associated pipeline and support industries.
Secure, domestically produced gas can help restore a competitive edge to overall U.S. manufacturing. Clean-burning gas can provide a bridge to the environmental future with low-emission fuel until renewables come on stream without costly subsidies.
Caution: there is one big difference in the three revolutions. In the first two, people knowingly changed their lives to participate. They began using computers for many things and they changed many buying patterns. The result has been new lifestyles and most would not go back to the time before.
The shale gas revolution is comparatively invisible. Most people who turn on their stoves, heat their homes or use electricity generated by gas-fueled boilers won’t know they are benefiting from the shale gas revolution. They may never know about – let alone appreciate – the technology that tapped new supplies or built the new pipelines that brought gas from new fields.
Mayer Brown actively deals with almost every phase of shale gas development in many countries. Those technology and pipeline achievements are not invisible to us. We felt it would be a catastrophe if these technical and economic developments were to be criticized into paralysis and regulated into futility. Six years ago, we realized the need for new awareness of industry achievements.
One step to help crystallize this awareness was starting our annual Global Energy Conferences. We held our Sixth Annual Conference last May. This event has given us and our attendees a window into the industry and a view to its future. These are some of the insights that were presented at that conference:
Shale Gas And Industrial Competitiveness
While conferees are bullish about what shale gas can contribute to America’s competitive edge and overall economy, it won’t give the U.S. a unique boost indefinitely. China appears to have as much as – or more – shale gas than the U.S. In fact, if the U.S. has one real advantage, it’s the speed with which we can bring the gas on stream.
China will face pressure from trading partners to convert to cleaner- burning gas to offset the pollution now resulting from the country’s growing use of coal-fired boilers. To the extent that the Chinese respond to those pressures, you can be sure they will be pragmatic and purposeful. Today we read that they are adding the equivalent of total UK electrical generation every year, much of it in coal-fired plants. But in five years I expect we will be reading how they are converting coal-fired boilers to shale gas at the same rate.
If they do so, there is a good likelihood they will have adequate gas supplies on stream. China is investing in U.S. shale gas production and working with companies with special expertise in shale gas production. The reason for their investment, and that of other foreign energy companies, is not only the immediate economic returns, but also the specific intent to gain “hands-on” knowledge and technology to enable them to tap shale gas. The effect of shale gas is not confined to the U.S. and China. Many countries with shale gas deposits are looking to avoid reliance on external energy sources.
An International Gas Market
When conventional gas was thought to be the only natural gas in quantity, there was some fear that Russia and the Persian Gulf gas exporters might form an OPEC-like organization, complete with price floors and production allocation. The widespread geographic distribution of shale gas probably won’t allow any group of countries to become the OPEC of natural gas.
No doubt Persian Gulf LNG delivery capability will continue evolving to meet the spot needs of consumers – and the ongoing needs of gas producers. In fact, the LNG market for conventional gas was well under way before shale gas production was thought possible. The LNG growth will continue until differentials between markets will no longer be an adequate incentive. As margins decline, LNG will assume the traditional role of the swing supplier, meeting the market. It should still be profitable – but on tighter margins.
Some have suggested that the availability of shale gas will exert downward pressure on oil prices. If overall energy demand were static, that might happen. But many countries are rapidly improving their standards of living and using more energy to do so. While commodity prices will always be subject to big surprises, total worldwide energy demand will, over a significant period of time, sustain today’s crude oil prices. The most influential crude oil price variable will probably continue to be the volatility of events in the Middle East.
Competition with Nuclear Power
Until recently, it looked as if nuclear power would stay on a steady, low-key expansion track – at least in those countries where it had overcome the fears of catastrophic incidents and had no problems to speak of. But with the Japanese earthquake and tsunami, there is a lot of rethinking under way.
For example, the German government announced the immediate closing of eight of their 17 nuclear plants and the remainder by 2022. This was a sudden and unexpected reversal on the part of Chancellor Merkel. It also changed the political balance of forces within Germany which combines a high degree of industrialization with one of the most aggressive Green lobbies in Europe.
It’s too early to predict the result of these announced closings. Nuclear power generates 23% of Germany’s electricity. Replacing this much capacity seems too great a demand for renewables to supply within 11 years. If the shut-down decision remains in effect, this may be good for shale gas as an intermediate, environmentally friendly fuel. More rethinking on the role of nuclear power may be going on behind the scenes.
Foreign Investment in U.S. Shale Gas
Some people fear foreign participation in the U.S. shale gas plays. The concern is that participation will lead to exporting U.S. gas to foreign markets and to scarcity and higher prices in the U.S. I disagree.
First of all, the foreign participation is not only in the gas plays but in the expertise that finds, produces and transports it. The spread of expertise to other countries and domestic production will reduce their need for our gas.
Secondly, widespread production and use of shale gas will reduce – not enhance – the cartel pricing that all oil-importing economies have labored under for 40 years. It will also make customers less dependent for so much of their energy on long sea lanes and a volatile part of the world.
Thirdly, those who worry about low prices to consumers often ignore the effects of low prices on producers. Today’s low gas prices in the U.S. would make it hard to develop the shale gas plays optimally. The infusion of capital from major companies in at least nine countries has put billions of dollars to work in the Marcellus shale play alone, resulting in thousands of wells and accelerating the need for new pipelines and other infrastructure to monetize the gas.
The Future of Shale Gas
In short, we see shale gas as having strong global environmental and economic potential. Economically, many companies and workers will benefit by growing domestic energy industries. Negative effects will be mostly felt in countries that expected to have long-term control of a profitable gas export market.
In the U.S., the shale gas boom couldn’t have come at a better time. Our economy needs more jobs, cleaner energy and lower balance of payments that a domestic gas industry can provide. Ideally, regulatory and tax policies should encourage investments in gas exploration, production, transport, use and even export.
With all the positive indications, we are mindful of two factors: the media negativity that I noted at the outset and the regulatory climate such negativity can generate and support.
Both factors are real. Shortly after our Global Energy Conference in May, several negative articles appeared in a major newspaper. In substance, the publication attacked shale gas development over a wide range of issues: speculations about the life of shale gas plays and individual wells; allegations of high expense in maintaining production; and dire warnings about the potential environmental side effects of fracking, including groundwater contamination from chemicals used in drilling and production.
The articles were largely drawn from anonymous e-mails circulating in the Department of Energy. The writers dwelt on all the “what ifs” that non-industry government officials could produce. The editors did not look for positives to balance those possibilities. For example, they totally ignored the significance of multibillion-dollar investments that international companies from China, Japan, South Korea, India, Australia, England and Norway, among others, are making in the Marcellus field alone.
Those whose businesses are solving problems and producing and transporting energy tend to see such criticism as baseless, biased and anonymous. And they are right. The point is not the objective validity of the criticism, but its weight in policy formulation. And its weight should not be discounted.
A year ago, who would have thought that Germany – the fourth-largest economy in the world – would retire 23% of its total electrical generation capacity because of an earthquake in Japan?
It was a backdrop of such negative criticism that made that decision seem optimal to the German government. Similar criticisms no doubt carried weight in decisions not to permit drilling in the ANWR in Alaska and off the outer continental shelves in the lower 48, and in the heartbreakingly slow return of activity to Gulf of Mexico exploration and production.
Shale gas is an answer to so many U.S. economic and environmental problems; it is hard to see it as not succeeding. But, as prolific, profitable and useful as the gas is, the regulatory road to its path to success is unclear. Based on what we’ve seen of regulatory decisions and their effect here and abroad, I remain cautiously optimistic: optimistic about the potential of the gas, but cautious about the potential of the regulatory environment.
Author
Dallas Parker is a partner in Mayer Brown’s Houston office. He represents clients in corporate and securities law matters, with extensive experience in the areas of mergers, acquisitions, takeovers, proxy contests, public and private offerings of equity and debt securities, corporate governance, independent committees, and related matters. Parker represents US-based clients wishing to do business around the globe, as well as international clients wishing to conduct business in the US. He earned his JD, cum laude, from the University of Texas School of Law and his bachelor’s degree from Vanderbilt University. He can be reached at dparker@mayerbrown.com.
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